Branchless banks defy the naysayers

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Bankers used to worry that online depositors would dart away as soon as the enticing yields on their accounts began to erode. The last several quarters are changing perceptions, though.

Online deposit franchises have been showing resiliency in the face of falling interest rates — a trend that suggests the branchless approach is more durable than some observers previously believed.

The latest evidence came Wednesday, when Ally Financial reported that its retail deposits rose by 5% over the last two quarters, even as the rates paid on those deposits fell by 9%. Detroit-based Ally has no physical branches.

“There’s been skepticism around whether or not it’s a viable market,” Ally Chief Financial Officer Jennifer LaClair said in an interview. “We think we’ve answered this question loud and clear.”

Other branchless banks are showing similar strength. Goldman Sachs, which has reduced the rate on its high-yield savings account by 24% since June, reported last week that its online deposit platform grew by 67% in 2019.

At Sallie Mae, which also reported its quarterly earnings on Wednesday, retail and other deposits, a line item that excludes brokered deposits, rose by 21% between the fourth quarter of 2018 and the same period a year later, even as rates declined by 4.7%.

American Express and Discover Financial Services do not report their fourth-quarter earnings until later this week, but during the first nine months of last year both companies saw their domestic online deposits increase at a faster rate than total U.S. deposits grew, according to a recent report from Fitch Ratings.

Mike Taiano, a Fitch analyst, said that the rating agency’s view of online deposits has evolved as the evidence of their staying power has accumulated. He attributed Fitch’s earlier wariness to the perception that branchless banks appeal to so-called rate chasers, as well as the fact that it is easy to move funds from one online savings account to another.

“I think we definitely feel somewhat better about the stickiness of deposits,” Taiano said.

To be sure, the branchless banks have been aided by the largest retail banks’ unwillingness to raise their yields substantially, no matter what broader interest rates trends would suggest.

Savings account holders at Ally currently receive an annual percentage yield of 1.60%, which is down from 2.2% seven months ago, but still far more attractive than the narrow returns available at Bank of America and other big banks. The direct banks can afford to pay higher rates on deposits than more traditional competitors because of their significantly lower cost structures.

The branchless banks are also benefiting from consumers’ greater openness to banking exclusively through digital channels. That trend will continue as millennials and members of Generation Z begin to comprise a larger share of the U.S. adult population, Taiano said.

LaClair said Wednesday that Ally’s deposit growth has come not only from new customers, but also from existing customers who are putting more money into their digital bank accounts. She pointed to Ally’s 96% customer retention rate and said that round-the-clock availability of customer service is a selling point.

Ally’s total deposits have more than doubled over the last five years, as the company has sought to replace more expensive ways of funding its lending businesses. The $181 billion-asset company said Wednesday that it has now reached its goal of deriving 75% of its funding from deposits.

“Our deposit portfolio is now within the range of our core funding financial objective, representing an important milestone for us,” CEO Jeffrey Brown said on Ally’s earnings call Wednesday. “This should not imply we take our foot off the gas with respect to deposit inflows. ... We simply say this as a testament to how far we've come in scaling our deposit book.”

Executives said that they like the demographic profile of Ally's depositors — many of whom are in the so-called mass-affluent segment — and that their hope now is to sell mortgages and other loan products to more of them.

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